Pub. 7 2017-2018 Issue 1

16 O V E R A C E N T U R Y : B U I L D I N G B E T T E R B A N K S - H E L P I N G C O L O R A D A N S R E A L I Z E D R E A M S Along with benefits received from enhancing a bank’s risk management process, Congress approved a small business incentive for mid-size companies that form their own insurance companies to insure these currentlyunfunded risks. Through the incentive, banks can formtheir owncaptive insurance companies and then make an election under Section 831(b) of the Internal Revenue Code. This allows companies to pre-fund for potential future risks on a tax advantaged basis, provide an incentive to set money aside for future potential claims and create a mechanism for companies to formalize their current self-insurance program. In the December 2015 Appropriation Bill, Congress moved the annual allowable premium limit from $1.2 million to $2.2 million for the tax years after 2016. Financial institutions with larger baskets of unfunded risks will be able to continue to grow their captiveover time as the institutiongrows organicallyorwith acquisitions and the small business incentivewill also grow. This increase in the allowable premium limit has spurred additional interest for larger institutions ($2bn plus) that have more signif- icant unfunded risk. The potential savings related to this small business subsidy (Section 831b) for captives varies from bank to bank, but they can be significant. In some cases, holding companies can see an increase to earnings per share of 3-5% prior to adjusting for claims made to the captive. Of course, a bank does not expect a significant claimyear after year. The captive is designed to cover risks that typically have high potential loss severity but low likely frequency. The captive becomes a way to put reserves away, literally for a rainy day. Of course, this solution isnot afit for everybank. This solution should only be implemented by banks with sufficient capital and earnings. Holding companies that want to form a captive must be well managed and well capitalized and their affiliated bank that pays premiums into their captivemust have sufficient capital and earnings to support the additional insurance expense at the bank level. Captive insurance companies are a growing trend for high performing banks throughout the country. As banks become more aware of their unfunded risks through ongoing enterprise risk management, the captive offers a unique and customized approach to identify and fund for those risks on an annual basis. And, the significant small business incentive provided under Section 831(b) of the tax code provides further motivation to implement the structure.  Banks with an interest in exploring whether a captive insurance company is a good fit for their institution should contact Josh Miller at jmiller@key-state.com . Currently 26 state banking associations, including the Colorado Bankers Association, have endorsed the Bank Captive Program for their members.   continued from page 15